The Impact of Inflation in the U.S. and the Road Ahead

By Brendan Connolly | February 24, 2022

The Bureau of Labor Statistics latest projections for inflation indicate that the Consumer Price Index (CPI), which is a measure of the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services, rose by 7.5%, which was higher than expectations. Though some inflation is expected throughout the year, ideally 2%, this would represent the fastest rise in inflation in almost 40 years. In examining core CPI, which excludes energy and food due to their volatility in prices, the value rose by 6% year-over-year which would also represent the largest increase in almost 40 years. While the Federal Reserve had maintained throughout 2021 that rising inflation levels were simply transitory as the economy began to reopen, Fed Chair Jerome Powell signaled that the rising inflation is a threat to the labor market and the economy as a whole.

The rise in prices can be attributed to a few factors. Rachel Siegel of the Washington Post notes that as online shopping boomed during the start of the pandemic, the prices for global shipping began to increase as shipping space dwindled. However, these supply-chain problems did not become as large until the spring of 2021, when many parts of the U.S. economy began to reopen as vaccination rates increased. One of the industries hit hardest by breakdowns in the supply chain was the automobile industry, due to a shortage in microchips, an item now essential to modern car production. In light of this shortage, the price of new cars rose by 12% in 2021, and the price of used cars rose by 37%, as the available supply of cars dwindled. In addition to the auto industry, a few other notable sectors in which prices are increasing due to a lack of supply and high demand include housing, food, and energy, with the average prices increasing by 14.0%, 6.5% and 49.0% respectively. Similar to supply chain issues, another area impacting inflation is the lack of labor throughout the last year. As many Americans have either lost or left their job during the pandemic, companies have been forced to raise wages, in order to entice workers and fill positions. This phenomenon is reflected in the average wage of workers increasing by 4.8% over the year 2021, though it is worth noting that this increase has not been able to keep pace with inflation. However, in order to raise wages, this comes at the consequence of raising the prices of various goods. This can be seen most evidently in the food industry, with companies such as Kraft, Heinz, and General Mills announcing price increases. Thus, a breakdown in the supply chain and a dwindling workforce may be contributing to the rise in inflation.

In examining the immediate and long-term impacts of inflation and the Fed’s options going forward, many economists note that this may have lasting effects on the cost of housing, as well as groceries for the foreseeable future. In addition, current consumer expectations may further impact inflation. The University of Michigan’s Consumer Sentiment measure has fallen to similar levels to the start of the pandemic. If consumers expect inflation to increase further, this may spurn an increase in purchases today, in order to avoid higher costs in the future, leading to even more inflation. To possibly curb inflation, the Federal Reserve has noted that they will begin to stop purchasing government bonds, which has assisted in increasing the money supply in the economy, and providing an economic stimulus. In addition, the Federal Reserve is expected to raise interest rates, which incentivizes Americans to save, thus slowing economic spending and lowering inflation. As the U.S. approaches year three of the Covid-19 pandemic, and the Omicron variant begins to taper off, the U.S. faces the challenge of attempting to fully re-open the economy again, while also managing much higher inflation levels.

Edited by Maggie Reddington